Miller Safe Co. v. Commissioner

MILLER SAFE CO., INC., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. Miller Safe Co. v. Commissioner Docket No. 10788. United States Board of Tax Appeals 12 B.T.A. 1388; 1928 BTA LEXIS 3350; July 17, 1928, Promulgated *3350 C. J. McGuire, Esq., for the petitioner. W. F. Wattles, Esq., for the respondent. STERNHAGEN *1388 The Commissioner determined a deficiency in income and profits tax for the period February 1 to December 31, 1919, in the amount of *1389 $4,235.69. Petitioner claims that the Commissioner erred in refusing to allow a deduction of $9,208.02 covering alleged interest allowed by petitioner on sums received from one of its stockholders during the years 1910 to 1918, inclusive. The facts are stipulated. FINDINGS OF FACT. The petitioner is a Maryland corporation with its principal place of business at Baltimore. Prior to November, 1910, and thereafter, through the taxable period in question, February 1, 1919, to December 31, 1919, S. F. Laucks owned a majority of the capital stock of the petitioner. Beginning in November, 1910, and from time to time thereafter, he advanced money to the petitioner. At December 31, 1918, these advances aggregated $31,867.64. These advances were made in small amounts, for the purpose of enabling petitioner to meet its current financial obligations. When the foregoing advances were made to petitioner*3351 it was considered by both the borrower and lender that they were not formal loans, and that they would be repaid promptly out of expected profits, which, however, did not materialize. Neither party intended and there was no agreement for payment of interest on these advances, and it was only due to the fact that the petitioner made a profit in 1919 that this interest was paid. At a meeting of the board of directors of the petitioner held October 20, 1919, it was decided that interest should be paid on S. F. Laucks' open account, commencing with the balance at November 30, 1910, and terminating at December 31, 1919, and for each year thereafter until the advances were repaid. At the time of the meeting of October 20, 1919, the outstanding capital stock of the petitioner consisted of 1,500 shares of common stock held as follows: Shares S. F. Laucks [895] George S. Schmidt [250] J. A. Dempwolf [200] Israel Laucks, father of S. F. Laucks [150] S. Laucks Xander [2] W. W. Cloud [1] A. C. Kinzie [1] I. M. Buckingham [1] 1,500 In accordance with the resolution of October 20, 1919, petitioner credited to Laucks' account at December 31, 1919, interest in the amount*3352 of $11,345.47. Of this amount $2,137.45 was for interest at the rate of 6 per cent per annum during the period February 1, *1390 1919, to December 31, 1919, and has been allowed by the Commissioner as a deduction from taxable income for that period. The balance, $9,208.02, was for interest at the rate of 5 per cent per annum on the fluctuating balances of Laucks' account during the period prior to February 1, 1919. In its income-tax return for the period February 1, 1919, to December 31, 1919, petitioner deducted this amount, $9,208.02. Such deduction was disallowed by the Commissioner and income correspondingly increased. Petitioner's books were kept and its tax returns filed on the accrual basis. OPINION. STERNHAGEN: The question is not, as argued by petitioner, whether the itme was interest which accrued for the first time in the period in question when it was put on petitioner's books, but rather, whether it accrued at all as interest. The petitioner, under the stipulated facts, was under no obligation to pay interest during prior years because there was no such agreement. The stockholder was apparently advancing money without interest for reasons of his own. *3353 When the corporation resolved to pay him "interest" it was a gratuitous act. Strictly the amount was not interest. The statute should not lightly be construed to permit interest, which ordinarily would accrue ratably so as to be deductible proportionately, to be piled up for deduction in a year when taxes become important - especially when the debtor and creditor are so closely related that their interests are largely at one. The respondent was correct. Reviewed by the Board. Judgment will be entered under Rule 50. LITTLETON LITTLETON, dissenting: I can not agree with the decision of the Board in this case. I think the Commissioner erred in refusing to allow the petitioner a deduction of $9,208.02 as an ordinary and necessary business expense for the taxable period February 1 to December 31, 1919. The question in this case is not so much whether this amount represents interest for any particular period upon borrowed money but rather is the amount an ordinary and necessary business expense paid or incurred within the taxable period. The mere fact that the amount, liability for which was first incurred in the taxable year, was determined by computing*3354 interest at 5 per cent upon the balances owing by the corporation during a period prior to February 1, 1919, *1391 does not prevent the allowance as an expense incurred in the taxable year. I agree that, as a general proposition, the taxpayer can not borrow money and wait until some subsequent year to take a deduction for interest upon such borrowed money over a period of years in order to get the benefit of such deduction in a year in which the taxpayer has large profits. See Tel-Electric Co.,1 B.T.A. 434; H. Harwood & Sons, Inc.,2 B.T.A. 1293; Avery v. Commissioner of Internal Revenue, 22 Fed.(2d) 6. But that is not what happened in this case. The facts show that Laucks made small advances to the corporation from time to time to enable it to meet its current financial obligations and that these advances were not considered by the taxpayer or Laucks as formal loans but, on the contrary, it was thought that the amounts would be immediately repaid to Laucks by the corporation. Neither party intended at the time the advances were made by Laucks that any interest would accrue on them, inasmuch as it was believed that*3355 the amounts would be shortly repaid by the petitioner. This was all in perfect good faith. As time went on, however, the corporation realized that it would not be able to repay Laucks the total of the advances made from time to time as expected and that the amount had become rather large so the directors decided in October, 1919, that the corporation should compensate Laucks for the use of the money by the petitioner in its business. The amount of $9,208.02 paid by the corporation was an ordinary and necessary business expense and was first incurred on October 20, 1919, and I think it should be allowed as a deduction from gross income for the taxable period involved.